The New Wall Street (Halloween Comes Early)

During the first half of September I kept trying to tell my five-year-old that we were living through historical times. Of course he didn’t grasp what I was saying until I told him it was like one of his favorite holidays-- Halloween. The financial world is worried that terror, real or imagined, lurks around every corner. Wall Street, unfortunately, created the monsters that now threaten to destroy it. But what will the future entail and how will Nicholas-Applegate change its trading to adapt to the new environment? The answer is… the more things change, the more they stay the same.

Our trading focus has always been preservation of clients’ alpha, and that objective will not change. The traders at Nicholas-Applegate have always closely supervised the firm’s global executions, whether through frequent phone calls to brokers over the life of a trade execution or by responding to order flow through dark pools of liquidity. Although we anticipated broker consolidation, the speed with which it has occurred has been totally unexpected. Despite a new brokerage landscape, we will continue to be flexible in our approach and use services that add value to our execution and investment process.

We have been integrating Fidessa LatentZero as our new order management system (OMS) and believe that technology will continue to drive our business. We trade with many brokers and have not consolidated trading to single platforms or single pipes, a practice which has served us well during these tumultuous times. We will continue to assess the range of trading-based services and will select the ones that fit our execution process. We will also trade more direct market access (DMA) globally, as the markets in Europe and Asia will continue to fragment locally but be connected globally. Again, all along we’ve been focusing on execution strategy and adapting to the changing means of accessing liquidity, whether through a stock exchange floor or a dark pool.

As brokers have reshuffled, we have capitalized on existing best practices to shift our equity trading and exposures to different parties. The Nicholas-Applegate investment teams, in coordination with trading, compliance, and operations, have been in close collaboration and communication regarding the swift regulatory changes. Our collective expertise is well suited for a dynamic environment in which global regulations will definitely play a bigger role.

When assessing execution counterparties, our main goal is to determine the value added. Is this the right venue to get the best execution? We will continue to ask ourselves that question. Using this analytical approach over the years, we have seen more and more of our trades going to crossing networks, to DMA venues, and away from investment banks. As use of algorithms and fragmentation has increased, bulge-bracket brokers have been getting higher volume, but not crossing internally. They have been in the process of fixing this, as trades go through their internal systems before going outside to the market. I believe this will help them retain their execution business, but will also allow agency brokers with good sales traders to capture some of that business as outsourced trading desks. So buy-side firms that may be understaffed will still be able to find brokers who can help them execute trades. We have an experienced global team, but I think some buy-siders were caught off guard and will come back to brokers who can trade blocks of stock at a price. With elevated volatility, institutional traders and portfolio managers want to trade at the price on their screens and will again value crossing opportunities. I think agency desks that have taken advantage of this bear market by expanding will have better-than-ever opportunities to capture volume as their biggest competitors sort themselves out.

As far as commissions, I believe that we’ve seen a stabilization of cost, and most likely, we will not see them go much lower. It is quite possible that with a scarcity of brokers, commissions may creep higher where buy-siders are finding good service. Commission-sharing agreements will remain a growing trend, but buy-siders will spread risk by using more venues instead of just one broker to handle the agreements. Being able to trade in the best execution venue and sending commission for other services shouldn’t change too much in my opinion.

Nicholas-Applegate will continue to be open to new execution venues, counterparties, and brokers who help us preserve alpha for our clients. We will continue to invest in innovative systems that provide efficiency and speed of trade execution. Hopefully, the market returns to stock picking instead of levered exposure, and we can enjoy a Halloween the way it is meant to be-- with children laughing, tricks or treats, and a good time.